401k Benefits…..and A Sundae

Get the match. Get the match. For all that is good in this world, Get. The. Match. I see this advice at LEAST 5 times per week, and it’s good great advice. Please do GET THE MATCH. But I think it is putting an unusually large focus on one of the (if not THE) smallest benefits of the 401K. Read on to see all the wonderful 401k benefits that exist, with a fictional sundae as your guide.

Setting this post up……..

Last week we were at a company meeting and the big boss dropped a mini-bomb on us right before the lunch break

“Starting in 2018, we will be doubling the employer 401K Match”

By far the biggest response from the crowd all day, celebrating a 1.5% tax-free raise that we weren’t expecting. Okay, maybe I was the only one thinking “Tax-Free” but everyone else was excited along with me.

And Yes, for the people that already did the math, our previous match was a poopy 1.5%. Now we’re at 3%, which feels more respectable and in line with our industry standard.

As the cheering faded (no joke, we cheered), I heard this from the guy directly behind me

“Oh, now that they are doubling it, it might be worth actually doing it”

Initial Reaction: How can you only care about the match when there are so many other 401k benefits that make them worthwhile?

looking back at all the advice I see about “getting the match” if the match isn’t perceived to be worth it I understand why someone wouldn’t invest in their 401K.

MMmmmmmmm…. Sundae

401k Benefits…..and A Sundae

I am going to try and put all the 401K benefits into perspective. We need to shift the mindset. There is much, much more than the match.

I will use 3% as the average match based on this article from Investopedia:

“About 40% of companies contribute 50 cents for every dollar employees contribute up to 6% of their pay. Another 38% match employee contributions dollar for dollar, but the maximum is normally lower – commonly 3%” – Investopedia, Read more: What Is a Good 401(k) Match?

Sample Family for all examples below: Married, putting away 6% with a 3% match, $100,000 combined income

Investment Gains (Bowl)

The humble bowl, doesn’t get the credit it deserves. And just like the bowl, the investment gains don’t get the credit they deserve as the base of the 401K. Your contributions will generate the biggest returns over time, but they get demoted to glassware because you can get investment gains in a bunch of different places.

Hard to pin down the actual amount this will be, and it could vary greatly depending on your allocation and years left to invest. Since I like numbers, will look at a few projections.

Putting 6% away each year for the below time periods at an 8% average gain

Tax Savings (Vanilla Ice Cream)

Sorry Tax Savings, you are super cool and all but I can’t let you be something sexy like the whipped cream……

They are an overlooked and IMMEDIATE benefit of using a 401K though. You start saving on the tax bill from day one. and you can think about this as saving on your income that is taxed the highest since anything you contribute comes straight off the top.

Running a few numbers based on our example family above (includes the standard deduction for a married couple):

6% Match – Saves $1,230/year

10% Match – Saves $1,830/year

18% Match (Maxed 401K) – Saves $3,030/year

If both partners can max out their 401K, You Save $5,730/year

Right out of the gate, tax savings compete with the employer match of $3,000. Especially if you are able to max out your 401K (which on 100K combined income is a real possibility). The more you make, the more impactful tax savings can be.

In this example, combined with the standard tax deduction none of your money would be taxed at the 25% tax bracket.

If you made $150,000/year combined and both maxed out your 401K it would save you $9,000!

*I used this calculator to run the numbers, your situation will be different. I kept it pretty simple for this example, but taxes rarely are.

Investment gains on Tax-free money (Hot Fudge)

The Tax-Savings get sexier when they are left alone to compound for a long period of time in a sleek index fund.

Using the tax savings of maxing out a 401K ($3,030) every year*

10 years – $17,106 in Investment Gains

20 years – $89,151 in Investment Gains

30 years – $279,808 in Investment Gains

Remember these are gains on the $ that would be going to the government. That is why it is hot fudge and not cold chocolate syrup.

Ideally, when you actually start to pull this money out many years down the road you will be in a lower tax bracket than you are during your earning years. No one knows what the government will do, but I operate on what I know today and the 401K makes sense. Since the contributions are tax-free you can get some cool tax/401k math like this:

Gains on the employer match (Whipped Cream)

How can we talk about the gains on the employer match before we even talk about the match?

Because. Even if the match is small (for example the 1.5% I was getting before the change) the gains by the time you retire will not be. Hows that for some whipped cream?

I am not going to run the numbers on the employer match because they will mimic the gains in the previous section ($3,030 if you max out one 401K account).

Employer Match (Cherry)

In my life, I have seen an actual cherry on top of a sundae maybe 1 time. Why? Because they are a completely unnecessary component. I don’t need a fruit messing up all the greatness that happens below it. Just like I don’t NEED a match to rock the hell out of a 401K.

The employer match makes the previous step possible, we take $3,000 when it is offered up, but not everyone has it available to them. Does that mean they should ignore 401Ks?

Let’s not pretend we wouldn’t eat ice cream with hot fudge just because some whipped cream and a cherry were missing.

That is how I want everyone to think of the employer match. Yes, it is free money that we should gladly take, but even without it, this is still a sweet fricken deal!

In short:

Sundae > Cherry

401K Benefits > Employer Match

What do you think of all the 401k benefits that exist? Are there any other 401k benefits I am missing? Do you invest in a 401K?

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Comments

Ha, great write up Mr. AE! I max out my 401(k) and thoroughly enjoy the tax savings I receive from doing so. One thing that is always on my mind is the most tax-efficient drawdown strategy for later in life when I want to tap into that money. What are your thoughts on pulling out the money tax-efficiently?

Great point! I wouldn’t mind a sundae without whipped cream and a cherry. In most of my calculations I don’t really consider the employer match, so I think about it similarly. If only they would match dollar for dollar up to $18,000…

Interesting analogy. And you’re correct, 401(k)’s can be a sweet deal based on the benefits you’ve touched on. While most 401(k)’s – I mean Sundaes – can be a sweet deal, not all taste the same. The one 401(k) with the average fund expense ratio of 1.25% or only actively managed funds isn’t nearly as sweet as a lower cost plan with index fund options!

Bahaha, it’s true! The cherry and the whipped cream are always my favorite part of a sundae. 🙂 I don’t get retirement benefits through my employer (or any benefits for that matter, ugh), so I’m drooling just thinking about ANY match. I have to privately save for my retirement. While it’s still a great way to build wealth, I do wish I got a match on the contributions to speed things up!

Totally agree. In my young adult years, I only invested enough to get the company match. Being a tad older now, I regret not maxing out to as much as I could possibly afford or the maximum allowed by the tax laws. All the great reasons you mention are what I missed out on. Tom

Well done, the match is the least of your concerns. It’s just a sexy way of getting people involved. Which if it works, then great.

I will say… having a small business 401k changed the game. Our company matches 25% of salary regardless of contributions. Which is obviously a tax deduction for the company and in turn you. So, now the matches really get interesting!

Mmm now I’m hungry! No complaints what so ever on employer match. It’s a beautiful thing. But I think it’s funny people need extra money incentive to save tax free money. Everyone that complains taxes are high should take advantage of the leftovers bones Uncle Sam throws once in a while! Why isn’t everyone doing thisss!

Love how you showed the layers; this should make people salivate at the thought of free money! Congrats on the great news from your employer; doubling the match is awesome no matter what it is. I’ve worked at places where there was no match whatsoever so this definitely is a plus. And with the market so high every bit helps in our retirement savings 🙂

I am one of those really fortunate people who gets a pension (in theory…thanks, Illinois!), so it’s always strange to me when people say they don’t think their company match is enough to make investing worthwhile. My work doesn’t match anything. 10% of my salary goes to my pension every year whether I like it or not. (Don’t worry. I know there are lots of perks to a pension that people are seriously jealous of!) It seems like a no-brainer to me to do all that you can to scoop up free money, whatever the retirement vehicle. Breakdowns like this definitely prove that point!

Congrats on the boost! It’s funny that your coworker sees the increase to 3% worth investing in – even at 1.5% it was free money!! Then again, I don’t pass pennies on the street either so what do I know?

I love ice cream, delicious analogy! You make a very compelling argument. My current company doesn’t have an employer match, but definitely still shoveling money into my 401k, and love watching it grow each month.

I’m also at 1.5% matching right now, but my company has no plans to double it 🙁
“I don’t need a fruit messing up all the greatness that happens below it. Just like I don’t NEED a match to rock the hell out of a 401K.”
THIS. I’ll take the 1.5% because it’s there, but even if my company had no matching, I’d still be putting money away towards retirement. I’ve told (aka yelled at) multiple coworkers of mine that they should be saving for retirement (all <25, but what can you do).

I love the sundae analogy! The 401(k) plan is a great tool for the average American to save for retirement. If you’re not contributing at least enough to get the company match you’re just leaving money on the table.

I have a 457 and a pension. Since we have the pension, my employer only contributes $20 match to the 457. It feels ridiculous sometimes, but I’ve never let it go to waste. But I love your point that a great match isn’t needed to rock savings! You should save for you, not because of the extra incentives. And I too prefer my sundaes sans all the extra fluff – ice cream and hot fudge is all I need 🙂

I’m definitely in the mood for dessert!
Last year our company changed from a 3% match to a complicated percentage on the first % vs the next set where in the end it’s a 4% match on 6%. I was already doing more than the minimum. I reevaluate and up the % every few months.
I convinced a coworker to decrease her ESPP and do the 401k to the match at least. Then we had layoffs. :/.
I just like the tax savings so I’m going to do all I can to get all of the sundae.

Great freaking post, AE. Love the analogy. And the commenters’ food/ice cream rejoinders are so good I’m not even going to attempt one. Let me just say that your defense of the 401(k) is the best I ever heard. I knew the 401(k) was good, but I had no idea how to articulate it. Now I do. Bravo, my friend.

Thank you for displaying and breaking up contributions & investment gains! I believe showing these to people is the most efficient way to get them to understand the power of compound interest. I show a similar breakdown to my coworkers, family, and friends who ignore their 401(k), and they literally don’t believe me when I show them the result of compound interest over decades. It literally looks like magic on paper, and most employees have access to it!

Great breakdown of why our 401(k)’s are so important to our financial future!

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